Monday, August 22, 2011

Why the market is selling off

Why the market is selling off...

1. Policy maker ineptitude in Europe. Germany is the only country that can save the EU. They have the money whereas all the other countries have huge deficits. However, German Chancellor Angela Merkel is between a rock and a hard place. She likes the idea of the Euro whose weakness allowed Germany to become an export powerhouse but being part of the euro means bailing out other debtor nations which the German public has no appettite for. So the Europeans are stuck in a cycle of doing just enough to keep the Union going but not enough to actually solve the problems. Markets want a Eurobond but Merkel wants no part of this because she knows Germany is going to be on the hook for any default. All this introduces much uncertainty into the market and therefore Europe sells off hard.

2. Policy makers in the US are hamstrung. Markets believe Ben Bernanke is out of bullets and the US government is embarking on austerity. With economic data and confidence weakening, austerity at this time will likely result in a slowdown in the economy and perhaps another recession. Markets are pricing in no more government stimulis and a handcuffed central bank.

3. Forced liquidation by hedge funds and european banks. Many hedge funds had been long on margin and when the market started crashing were forced to sell as they were getting margin calls. European banks are selling anything and everything to get more liquid to weather the storm.

4. High Frequency Trading magnifies all market moves. What has surprised me about this selloff is the swiftness, its like there is no bid in this market at all. HFT's push the market down faster when its going down and push it up higher when its going up. Many people don't want to part of these gyrations so they bail.

What we need is some policy coordination in Europe between the ECB and governments and in the US, a sign that the government is going to do something to encourage economic growth. Until that happens, the markets will likely keep going down until it finds equilibrium. Markets have zero confidence policymakers can or even have the ability to do whats right for the global economy. Tomorrow, I will write reasons to be bullish. Yes, there are some.